Conspiracy of Fools (63 page)

They dispensed with the niceties quickly, and Weil let Causey take the floor. The calculations of its mark-to-market earnings weren’t just wild guesses, Causey said, but conservative estimates based on quoted market prices. If market prices weren’t available, then Enron relied on long-term pricing trends to calculate the proper values.

Weil listened quietly, rapidly writing Causey’s words into his notebook. Causey struck him as incredibly cocksure of Enron’s abilities. After Causey began to wrap things up, Weil was ready with some questions.

“So did the models last year tell you that California electricity prices would be going berserk this year?”

“Of course not,” Causey replied.

“Then how can you be so sure of your abilities to predict future trends?”

The conversation went on a while longer, until finally Causey had had his say. Later, Weil was back at his desk, typing the information. If nothing else, he was certain of one thing. If Enron was willing to fly top officers up to Dallas for this, he thought, he must be hitting a sore spot.

David Duncan reviewed the two-page draft letter. With one more go-through, it would be ready for Lay’s stationery and signature. Then off to Arthur Levitt at the SEC.

Duncan, on Andersen’s behalf, had written the letter objecting to the SEC’s proposed rule on consulting. Lay had agreed to sign, making it appear he had been so outraged by the proposal that he had banged out his objections—rather than just signing something written by the very accountants who stood to lose money if the idea was approved.

The tone of the letter struck Duncan as just right. It described Enron’s close relationship with Andersen, and its reliance on its consulting, as mechanisms that helped keep tabs on the company’s far-flung businesses. In essence, the letter argued that much of Enron’s success, and its skill in controlling its operations, were attributable to Andersen’s ability to provide both auditing and consulting services.

The letter was sent up to Lay, and he signed it on September 20. The irony seemed lost on everyone. By persuading its largest client to lobby the government on its behalf, Andersen had compromised the very independence that the letter claimed was holding strong.

The bulls for a company’s stock are the supporters, the ones who cheer every time the price rises another point. But the market also has its bears, short sellers who scour for overvalued stocks and put together trades betting on an eventual collapse in share price.

In New York, Jim Chanos was a market professional who had made his career rooting out the bad news about high-flying stocks. That fall, Chanos, the president of Kynikos Associates, was looking for his next big idea. A call from a friend alerted him to an article by Jonathan Weil that appeared on September 20 in the Texas regional section of
The Wall Street Journal
. Chanos was intrigued; it sounded as if Enron and other energy-trading companies could use their accounting to manufacture earnings just by adopting aggressive assumptions about the future of the marketplace.

Maybe it wouldn’t lead anywhere, but Chanos wanted to take a closer look at Enron. And the first thing he needed to do was review some of the company’s financial filings.

When managers from India came to Houston to work on the next plans for selling the international assets, Skilling dropped by for a chat. The letter about troubles in Dabhol still ate at him. He figured he’d ask about the Maharashtra State Electricity Board and see what happened.

“Listen, guys,” Skilling said after he entered the room. “What’s going on with the bills to the MSEB?”

Not a problem, one manager responded. “They’re having trouble paying. But we’re working it out.”

Trouble paying?
“What do you mean?” Skilling asked.

“The bills are really big,” the manager responded. “And they’re really straining under it.”

Skilling left the room more disturbed than ever. He began poking around and soon hit pay dirt. He discovered that Enron managers in India were helping
the electricity board stay out of hock. Whenever it ran out of cash, they simply shut the Dabhol plant “for maintenance.” That way, they limited the flow of electricity to whatever Maharashtra could afford. That was why there were no accounts receivable; Enron only turned on the juice when its primary customer had cash.

Skilling was furious. He wanted the top executives from India to fly to Houston immediately.

The meeting took place days later in conference room 50M03 at Enron headquarters. Sanjay Bhatnagar, head of Enron India, was joined by Wade Cline, the second in command. Across the table sat Skilling and Lay, looking impatient.

“All right, Sanjay, straight out,” Skilling said. “Is there a problem with MSEB paying?”

Bhatnagar raised his hands in a dismissive motion. “This is what it’s like doing business in India. We just stay on top of them and keep pushing to get it done.”

He had been keeping up the pressure, Bhatnagar said, just as he had always expected he would have to. “So there’s no problem. No problem.”

Skilling turned toward Cline. “What do you think?”

Cline glanced at Bhatnagar, then answered. “We have a problem.”

Bhatnagar smiled. “Wade is always worrying. This is India. This is how things happen in India. Not a problem.”

Skilling ignored him. “Wade, what are you thinking?”

The cash wasn’t there, Cline said. Under phase one, Enron should be billing about $30 million a month, but the energy board didn’t have it. They could only afford $15 to $20 million. When phase two began, Cline said, the monthly billings should climb to about $110 million. But the board would still have only about $20 million available.

Bhatnagar turned to Cline, looking livid. “Wade,” he said sharply, “you’re thinking about this all wrong. That’s not the way things are done in India.”

The Indian government had guaranteed payment, Bhatnagar said. The government would make good. They wanted foreign investment; they would never default on this.

Skilling held up his hands. “Fine. We understand the problem. They have $20 million; they need more than $100 million. Let’s start working on that.”

The executives needed to speak with Indian officials to find out if they would write a check. But whatever happened, Enron’s plant would not operate without payment.

The meeting broke up, and Bhatnagar headed downstairs, where executives
in Broadband were waiting for him. Cline lingered behind for a moment. Skilling approached.

“Okay, Wade,” he said. “What’s your assessment?”

Cline looked Skilling in the eye.

“It’s bad,” he said. “We’ve got a big problem here.”

Arthur Levitt needed an ally in the accounting industry. And he found one at Arthur Andersen in a soft-spoken yet scrappy managing partner named Joseph Berardino.

After spending his full career at Andersen, Berardino was a favorite to be the firm’s new chief executive. But even as his star was rising at Andersen, Berardino was becoming Levitt’s secret weapon. Quietly, he broke ranks with other accounting firms, working with Levitt to hammer out a compromise on the auditor-independence rules.

The presidential elections were a little more than a month away. Levitt knew he didn’t have a lot of time.

Fall’s arrival broke the California heat wave, but anxieties about the marketplace and trader gaming made the state’s energy crisis only grow worse.

Gray Davis, the state’s governor, became desperate. Things were out of control. The system seemed on the verge of collapse. Davis was ready to turn anywhere for help. So on October 2 at nine o’clock, he was in his office with two aides, preparing for a conference call. A secretary let Davis know everyone was on the line. He hit the button on his speakerphone. “This is Gray Davis,” he announced.

“Governor, good morning. Jeff Skilling at Enron.”

They spent more than half an hour brainstorming. From Enron’s side, Greg Whalley, the company’s top energy trader, and Steve Kean, its senior government-relations executive, helped out. But for the most part, the conversation was all Skilling and Davis.

The state couldn’t afford to pay hundreds of dollars for every megawatt hour, which last year cost less than twenty dollars, Davis said.

“It’s easy to fix,” Skilling said. The problem, he said, was that California bought most of its power shortly before it was needed, in the spot market. That left the state subject to the vagaries of market fluctuations. Instead, it should strike long-term contracts, locking in prices for years. Such deals could probably be purchased for less than fifty dollars a megawatt hour right now.

“That’s interesting,” Davis replied. “Give me some of the numbers on that.”

Skilling sketched out the details. The best way to handle it was through an online auction, he said. That would prove to suppliers that there was a market at a lower price. Davis said he would look into it.

The call ended, and Skilling felt pumped. Enron might have its foot in the door in helping put together a huge set of power contracts. Maybe the California mess could be fixed soon—and all to Enron’s advantage. After all, the contracts could be marked to market. Daily sales couldn’t.

The next day, Richard Sanders and his newly assembled team of lawyers and economists arrived in Portland, ready to hear from the Enron traders about California. The two primary lawyers working on the trading floor, Christian Yoder and Stephen Hall, joined the group.

Legally, things had worsened. The California Public Utilities Commission had served Enron with a subpoena seeking voluminous records. Sanders’s suspicions of oncoming litigation were already starting to look prescient. The team was taken to a conference room, where they met Tim Belden, the head of the trading desk, along with other traders, including John Forney, father of the Forney Perpetual Loop.

Sanders opened things up. “Just to make sure everyone is clear. We are here as representatives of the company. We are not your lawyers. We do not represent you.”

That was fine with Belden, but not Forney. He worried about his job, he said, and declined to speak with the lawyers. With Forney gone, Belden launched into a lecture about the California market. It dragged on for hours, until Belden said he was ready to discuss his traders’ specific strategies. The economists were booted out of the room; this was for lawyers only. Belden approached a whiteboard and wrote the names that his traders had given to their various ploys. Death Star. Fat Boy. Ricochet.

Sanders looked at the list with dismay. It almost didn’t matter whether the methods Enron employed in these schemes were legitimate, not with these kinds of names. Such in-your-face flamboyance would be enough to sway a jury. Topping it off, they were
juvenile
. Sanders couldn’t understand how someone like Belden would tolerate something so sophomoric.

Gary Fergus, another lawyer in the room, spoke up. “Why would you use names like that?” he asked.

Everybody laughed. “Yeah,” Sanders said. “Why didn’t you use names like ‘Mama’s Cooking’ or ‘Baby’s Baby’?”

As the meeting wore on, the lawyers knew they had their hands full. The strategies may have violated state anti-gouging laws, maybe even antitrust laws.

Some practices looked terrible but could probably be defended—like exporting power generated in California, where price caps were in place, and selling it out of state for more. Belden argued that the trading was just a mechanism to pull different markets into alignment. But of course, Californians plagued by brownouts and power shortages wouldn’t care much for an academic argument about why Enron was sucking electricity out of state.

Other tactics posed more than public-relations headaches. There were transactions where Enron traders had submitted false records to California or were paid for making commitments that they didn’t plan to keep.

The most egregious scam had just started. The traders discovered that if they submitted a schedule ending in a fraction—say, to sell 22.49 megawatts—they could make more money. When power flowed, California rounded the amount delivered down to 22, but at payment time it was rounded up to 23. That meant Enron was paid for a megawatt it never delivered. Multiplied by enough transactions, that could rake in serious money. So far, though, the traders had only done it twice, bringing in about fifteen thousand dollars.

Sanders was horrified. “Not only do you have to stop that, you have to send the money back immediately.”

“But if we send the money back,” one trader argued, “they’ll figure out what we did.”

Sanders stood firm. “I don’t care,” he said. “Send it back anyway.”

The next morning, Christian Yoder was at his desk. He glanced up and saw John Forney in his doorway, a troubled look on his face. “Hey,” Yoder said. “What’s up?”

Forney seemed reluctant to speak. He glanced at the floor for a moment, then looked Yoder in the eye.

“I’ve got a concern,” he said. He took a second. “Am I going to be implicated in anything serious?”

Yoder eyed him evenly. The man seemed terrified.

“I don’t know, John,” Yoder replied. “If you are, the people in the company that you need to talk to about handling it are Richard Sanders and Mark Haedicke.”

Forney glanced at the floor again, nodding. He was silent for a second. “Okay,” he finally said. “Thanks.” He turned to leave.

In Palm Beach, a crew from Florida Power & Light was at work just before 5:30 on the morning of October 6. The backhoe operator digging in the
ground didn’t see that he had hit an electric cable. A second later, it sliced in two; all the power was cut to the Breakers, the oceanfront hotel where Enron’s directors and managers were mostly still sleeping, resting up for their meetings that day.

The Flagler boardroom was illuminated by candlelight. It was four hours later, and the directors from Enron’s Compensation and Management Development Committee were holding the day’s first meeting. They had awoken in near darkness. Now, they were sweating and uncomfortable, straining to read the agenda. Lay’s plans to take his directors on a fun Florida trip had been dashed.

The directors, led by Charles LeMaistre, had finished approving changes to Enron’s compensation plans when they invited Lay into the room to make a presentation. And a momentous one. He was there to announce that he was ready to start the handover of Enron to Skilling.